So you don’t have to

I read Stephanie Kelton’s The Deficit Myth and wrote a review.

It is indeed correct to say that when the government is bidding for resources, the risk of inflation is low if those resources are idle. It is also correct that unemployment is an indication of idle resources. But just because some resources are idle does not mean that the government can spend wherever it would like without affecting prices. The government would have to be an especially perspicacious and adroit entrepreneur to advance its priorities while only using idle resources.

By the way, as I read the market for U.S. Treasuries, investors are betting that Kelton is right.

15 thoughts on “So you don’t have to

    • Yikes. Biden has an MMTer advising him on the economy? That’s a very bad sign.

      • Yes. Jared Bernstein, with a PhD in social welfare, considered by some to be Biden’s top economic adviser, although in disagreement on some points, has written “MMT is part of the solution.”

      • As if Trump has any plan to pay for his record deficits.

        Why should we view current administration policy as anything but MMT by a different name?

        • One might say that for decades the US has paid for military expansionism through MMT— as did Japan in the 1930s..

          Worth noting, Japan was the only developed nation to sidestep the Great Depression a topic of intense apathy on the part of Western macroeconomists.

          I wish proponents of MMT, or some version of MMT, with stop with their social-welfare blah blah.

          In general, government social welfare programs do not work and actually provide disincentives to work. Military expansionism is also a catastrophe.

          The right way to implement MMT is through a holiday on payroll taxes.

    • But David Brooks just told me that Biden is so mainstream he’s “radical centrist” and “non-ideological” who will make politics small again, unless Senate Republicans “invite” him to go nuclear and end the filibuster, language I’m sure he would have used if Trump had tried it. I just knew I was supposed to interpret those as Straussian signals, damning with faint praise. Got me again Brooks!

      • Let’s split this down the middle

        If I look a Biden’s biography, there isn’t a single thing that he hasn’t flipped flopped on. Today he says trans rights are the civil rights of our time. Yesterday he voted for the Defense of Marriage Act and Don’t Ask Don’t Tell. Today he is in favor of, vaguely, police reform. Yesterday he authored the 1990s crime bill. Today he cares about black lives. Yesterday he allied with segregationists to keep Wilmington blacks from getting bussed out to the suburbs.

        When I look at Biden, he is basically an amalgam of “current polling”. A politicians politician. He has even (quietly, making sure that nobody notices) taken stances against both “defund the police” and “toppling non confederate statues”. According to polling, those are both popular stances.

        However, the Great Awokening began under Obama sometime around 2014/2015. And Obama also knew how to read the polls and “evolve” his stances in line. We all know how its going to go. A lot of money will get spent and the electorate will get a little more brown and adderall dependent.

        Do we believe Sleepy Joe, very advanced in age and…mental faculties, is going to try that hard to stop the woke. Especially if a lot of it can have plausible deniability (I’m against “defund the police”, but I can’t stop local municipalities from setting their budgets).

        Let’s be honest, he will sign whatever is put on his desk without much fuss. They will try to make it all “unfalsifiable”, with reference to “metrics” and “experts”. I got a load of metrics and experts when I worked on their signature legislation during Obama’s tenure. It looks like a bunch of people in a conference room, throwing spitballs at a Powerpoint Presentation being streams and calling it all bullshit before an epic failure. And then after the failure a bunch of epic giveaways to special interests in “deniable” subsidies to anyone with the time to figure out the complicated money flows. Followed by pundits calling it a “success” based on fuzzy math and deficit spending. The donor class will get what it wants and the “experts” in the counties surrounding DC (richest in the country) will get their billable hours.

        Ross Douthat once asked, “how many divisions does fiscal responsibility have.”

        • It would not surprise me if they ran the data and said, “you have to have this and that policy in order to win”. And of course any politician will do what’s necessary to stay relevant. Scary though, to have politicians so accurately reflect the interests of the median voter.

  1. I have not seen a book on central banking that understands the mechanism.

    Our central bank collects taxes. It collects taxes by taxing the government bond industry. It does so without a legislative vote. So we already have the MMT system. Regulated bankers can only avoid the tax by keeping excess reserves high, to quit lending to risky enterprises. The government then maintains it necessary taxes by having recessions. We will have as many recessions episodes as needed to keep government from default.

    The charts bear me out. We have had consistent disinflation since 1980 and our recessions occur on regime change boundaries, followed by in increase in seigniorage taxes, taxation without representation.

    Our seigniorage currently are expected to be around 150 billion a year, likely more after the next stimulus round. This will total about 1% of GDP, or a 1% permanent tax on retail banking. The tax will continue to rise until partial default. So in essence, Fed taxes plus federal interest charges come to about 5% of the income of workers, and that is what the protests are about. This is the standard taxation without representation revolt.

  2. I haven’t read your book review yet but regarding inflation is the following.

    I imagine a simplified version of the Maslow hierarchy. It has two parts, peak and base. In the base we have MH (must haves). In the peak we have NTH (nice to haves).

    Recent events caused excess capacity in NTH and the number of items of NTH increased by re-categorization. There can be a transient capacity shortage in MH. It is transient because people might miss work due to illness but they recover and return or there may be a brief shutdown to move workstations further apart. MH can accommodate social distancing or masks.

    People will not consume more MH when there is economic fear and uncertainty and the number of items of MH has become smaller by re-categorization. If the government gives people and businesses money much of it can get stored at the Federal Reserve.

    In poor countries, recent events caused negligible re-categorization. In the United States, MH was packed with conspicuous consumption. MH is able to decrease a large amount on a dollar basis. Fortunately for restaurant, cruise, airline, and hotel industries, MH will rapidly expand when there is again a re-categorization.

    • When we reduce the NTH that is a contraction, a shortening of the value added chain which reduces the complexity of products. No need to label products, value chain theory is enough.

      • Restaurant meals and airline services are not products of reduced complexity. They’re just not being produced in many cases.

  3. Arnold, I didn’t have time to comment timely on your post Bad Debt. I think my comment on it is also related to this post on Kelton’s book. It’s a long comment but I hope you find it quite relevant to what you think about money and finance. Let me say that I have read neither Sufi’s book nor Kelton’s. I focus on issues relevant to your ideas.

    Let me start with “petrodollar recycling”. I remember well the period between January 1973 and December 1990. I lived most of those years in Chile and worked as a professor and an advisor on monetary and financial economics. In February 1985 I moved to Washington DC where I worked as an advisor on the Latin American debt until December 1990.

    Financial intermediation started to change in September 1973 –in a few days we had two independent events: on September 11, there was a military coup in Chile, and a week later a war in the Middle East led to the first oil shock. The recycling of the petrodollars started in 1975 and by 1979 some LA countries were heavy borrowers. At least until late 1980, interest rates to LA borrowing countries were reasonable albeit high, but during 1981 they increased sharply. Why? Because Paul Volcker’s policies at the Fed (he had assumed in August 1979 but Reagan assumed the Presidency in January 1981) implied not a significant reduction in the fiscal deficit but a radical change in its financing –from the inflation tax to market borrowing. In the second quarter of 1981, the fear of a sharp increase in interest paid on the outstanding stock (most pending contracts were at 6-months floating rates) made some of us nervous, and by December 1981 it was clear that a crisis was inevitable. Interest rates on the outstanding stock increased from an annual dollar rate of 10% to one of 20% (today this rate is 2%).

    Who was borrowing at 10% (+ a country premium + a private company premium)? In Chile, the borrowers were private banks that intermediated the foreign funds first to local companies and then also to high- and middle-income families as mortgage lending. In other LA countries, the main borrower was the government. In January 1982, new contracts started to decline and by August (due to what happened in Mexico and Argentina) the business had stopped. The renegotiation started immediately and lasted until 1991, but Chile borrowers renegotiated most of their debts before the end of 1985.

    You imply that ex-post LA lenders and borrowers made a huge mistake. Yes, debt renegotiation took too long but it was a direct consequence of lending to governments that –as the U.S. government– could no longer rely on the inflation tax to maintain the new higher levels of public spending. As the U.S. government, they change to market borrowing. Compare what happened in Chile and Argentina first during the period of borrowing and then during the renegotiation with foreign borrowers.

    The lesson I draw from “the lost decade of LA growth” is about the high cost of not paying attention to what Herbert Stein said. Any political jurisdiction in which the government relies on an unsustainable pattern of financing public spending, someday it will have to find new sources of financing or reduce the spending. That day residents of the relevant jurisdiction will pay the price of its government’s mistake.

    Second, you claim that “channeling savings from rich to poor in the form of loans is not a good idea”. Well, in 1991-93 I worked as an advisor on foreign aid to Africa, and then in 1994-97 as an advisor on reforming China’s state banking system (and their large investment in state enterprises). Financial aid to mitigate poverty is a different business but it helps to understand why borrowing —at soft rather than market terms— is always preferred to donations. Aid via soft borrowing is usually subject to conditionality that may be effective, but via donation the conditionality rarely is effective. Indeed, conditionality is expensive and the lenders must assume the cost of designing and enforcing reasonable conditions. If you are ready to aid poor people, just donate your funds with no conditionality and pray but don’t waste time meddling with the beneficiaries (of course, you cannot expect the scale of non-conditional aid to be enough to mitigate poverty).

    The case of China is interesting because it helps to understand why and how financial intermediation is good but under appropriate incentives, even if some funds go from rich to poor. After WWII and until 1980, it was quite common to argue that low household saving was a major constraint to overcome poverty (foreign aid was needed to complement domestic saving and sustain a high flow of investment, as the concepts are used in national accounts). When I moved to China, I was impressed by the large size of the 4 main state banks (although individuals and families could not have checking accounts, one of the banks had a large network of branches across China with half a million employees). I did some analysis of the available data and concluded that it was possible that household saving was at least 30% and perhaps as high as 40% of household income. More importantly, most of that household saving was being deposited into the 4 state banks and lent mostly to the state enterprises (an important reform of 1994-97 was to increase reserves on all deposits so the central bank PBC could invest them abroad and diversify the banks’ portfolios). Although at that time the state banks run a system of payments for enterprises, by far their most important service was to pool household savings to fund enterprises. It was not, however, a unified system of funding and controlling the state enterprises because the huge number of enterprises —under the political control of different government units— made difficult for the system’s insiders to assess performance (meaning that high-level officials of state banks could hardly prevent problems but had to be effective in solving them). The scale of state bank intermediation in China made everyone nervous, but as in Ponzi games, they didn’t have incentives to reform as long as it was easy to access a large flow of household saving. I don’t know enough to evaluate how the structure, behavior, and performance of that system evolved since 1999.

    Comparing China’s experience in the 1990s with those of most other countries at a very early stage of development, I’d say that the huge household saving channeled through the state banks was the critical difference despite the obvious weaknesses of the banks. In China, the poor financed the state to keep total or partial ownership of old and new enterprises. Remember that many of these old and new enterprises had access to foreign technology and financing, but the state kept and still keeps some control of most of these enterprises. I don’t think there has been any progress in assessing the degree of control that the Chinese government has on the many types of enterprises according to their legal ownership.

    In China, there was hyperinflation in the 1930s and 1940s, years in which different governments had to finance their participation in wars (Gordon Tullock’s first paper on economics was about China’s hyperinflation). Since October 1949, there have been neither hyperinflation nor high inflation (in the post-Mao era I think the highest inflation rate was just over 10% in 1993). The probability of high inflation is close to zero because the banking system is still able to finance the state (including the enterprises and all government expenditures that cannot be financed by taxation or other legal revenue). I bet that if someone were to promote MMT to the Chinese government, she would be surprised by the rejection.

    Let us go back to Western countries and find which ones could be interested in MMT today. Because COVID-19 and the lockdowns, in most countries fiscal tax revenues are declining and pressures for public spending increases. In Europe, the EU has just agreed to finance national governments that are expecting large increases in their deficits (there are still doubts about its implementation because enforcing conditionality will not be easy). ECB has already started to buy public debt but my understanding is that so far the purchases are funded by ECB’s borrowing from banks. In terms of funding the relevant issue is how Germany and other “lending” members of Italy and Spain will increase the limited ability of ECB to purchase public debt. All this should be analyzed as “rich to rich” intermediation on behalf of EU solidarity.

    In the U.S. as in all America, we should expect increases in fiscal deficits but the amounts will differ greatly across countries. Not surprisingly, Argentina (where I was born and raised) looks like the country where MMT could repeat itself (in the past 70 years, successive fiscal crises have made resort to the MMT-approach a question of when to use it). This time may be a last resort because the new Peronist government (inaugurated last December) had been renegotiating the outstanding debt before mid-March. In late July, a “reasonable” renegotiation may allow new funding from IMF and IDB, perhaps enough to avoid an MMT-relapse. On the other hand, Chile (where I live) looks like it will reject all attempts to rely on the MMT-approach. Despite the expectation of larger fiscal deficits this year and next one, the government can rely on both its Sovereign Fund and foreign lenders to finance them. The political tensions of last October are ready to return, however, and by 2022, they may put too much pressure on public spending and their financing.

    The U.S., thanks to its ability to borrow, shouldn’t have a problem to finance the expected much larger deficits of this and next fiscal years, but the election may bring pressures for additional spending that will be difficult to fund by borrowing. Beyond politics, an interesting issue is how low-interest rates affect the U.S. ability to borrow. Some people still believe that the low rates are the result of the Fed interventions since 2009, but the rates are low because of the large increases in “gross” saving at the world level in the past 40 years. Since part of this “gross” saving is recycled into consumption by low-saving people (including the purchase of housing and other durable consumption goods), the “net” saving (the one recorded in the national accounts) has not increased as much as “gross” saving. To say that this amounts to funding from rich to poor is an oversimplification: only to the extent that governments have relied on borrowing to finance their increasing spending to redistribute income to the poor one may argue that “gross” savers have financed the poor.

    At some point, however, the U.S. public borrowing to finance deficits may put pressure on interest rates. It doesn’t matter how long interest rates have been low. If public spending continues to be driven by income redistribution there will be a time when interest rates will rise (“gross” saving may continue to increase, but at that time most likely “net” saving will have started to decline) and Herbert Stein will be proved to be right again.

  4. There has never been a hyperinflation caused by government printing money.

    Oh, wait.

    At least those hyperinflations never led to anyone like Hitler.

    Oh.

    Never mind.

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